Thank You

Error.

WHEN THE HISTORY OF THE 21ST CENTURY'S first financial crisis is written, all of the distressed deals that occurred in the financial sector will likely be remembered as the building blocks of a new financial world order.

But we are, as the poet Lord Byron once wrote, the fools of time and terror, and this is evident in the bearish options trading in Morgan Stanley even as it appears poised to snatch Citigroup's brokerage business at what seems to be a very good price.

As Morgan Stanley's stock advances some 6% in anticipation of the deal that would give the firm the largest U.S. brokerage business, investors are actively buying put options in anticipation that Morgan Stanley's stock will decline. Trading is driven by belief that investors are too excited, and have too little information about the shape of the ultimate deal.

The proposed combination has many merits, including $18 billion in combined revenue, but the unknown is driving options trading. This negative reaction offers an important glimpse into sentiment of many hedge funds and portfolio managers. Morgan Stanley's trading patterns show these sophisticated investors remain skittish and very concerned about the markets and the economy. They are not betting that the start of a new trading year means all the woes of 2008 have suddenly vanished.

"They're picking their spots and buying puts because they think Morgan Stanley's stock is up too much. There's integration risk in any deal," a trading strategist at one investment bank said.

To be sure, these investors are just trying to get from point A to point B without losing money, or making mistakes in calculating risk.

"Assuming the reporting is accurate about the basic framework of the system, what are the details? How will this work? How will it be structured? We won't know the outcome until the deal is finalized. This could be yet another buy-the-rumor, sell-the-news type of story," said a financial sector trader at a big market-making firm.

Though the brush strokes of the deal have been widely reported, the details of the deal have not. This is why options-trading patterns are tilted toward a bearish outcome -- not just in Morgan Stanley, but in many stocks in many different sectors.